Last updated: 12:36 / Friday, 16 January 2015
MFS Research

Oil: Pulled Apart or Pushed Ahead?

Oil: Pulled Apart or Pushed Ahead?

At the beginning of 2015, the worry machines of the world are working full time. We hear that China is a bubble, Japan cannot be fixed, Europe is a mess again and the United States is showing signs of slowing.

There may be some truth in all this, but there are other truths that we should also consider.

The drop in oil prices is basically good for 70% of the world’s economies

The biggest economic regions, mentioned above, are all net importers of energy, and now that the price of crude oil has been roughly cut in half, their costs of doing business will also fall. Further, a drop in commodity prices tends to spur overall spending. Historically, going back over 50 years, a 20% decline in oil prices has signaled a 0.5% – 1% rise in the rate of real global GDP growth during the subsequent 12 months. The current drop in oil is about twice that.

The world’s currencies have been going through a dramatic readjustment

Many local-country currencies that were once the darlings of international investors have fallen, while the value of the US dollar has risen. For US consumers, the world’s biggest block of final demand, a stronger US dollar boosts buying power and creates demand for cheaper imported goods, from cars to smartphones. Exporting countries — such as Germany, Japan, China and others in Asia and South America — can sell more manufactured goods in the world market.

The US expansion has not been purchased at the expense of future growth

Though this business cycle — now in its sixth year — has been characterized by low interest rates, no one is rushing to borrow. During the three previous business cycles, US consumers and businesses took on more debt as the US Federal Reserve lowered rates to kick-start economic activity. This time, however, the increase in US private borrowing has been more than offset by even bigger increases in the value of the underlying assets — as well as gains in the income and cash flows that support the repayment of that debt. In other words, the risk to this cycle of higher rates coming from the Fed or the market is not as dramatic as in previous cycles.

The theme of the world consumer may be revived

Admittedly, global growth has been sluggish, but the world population has continued to expand. Household formation, along with its related spending, was deferred during the slowdown. I think the demand for goods driven by growing populations — especially in developing countries — is likely to re-emerge. Thanks to currency moves and lower energy prices, many goods are now cheaper, while world wages are generally rising. The emergence of the global consumer, a popular investing theme a few years ago, has been given an added boost.

On the whole, the mix of data does not suggest any kind of runaway boom in 2015, but at the same time, a global recession seems a long way off. Arguably, the world banking system has been largely repaired since the damage in 2009. For those investors scarred by the drops in global security markets six years ago who have been reluctant to return, it may be worthwhile to reconsider that the realignment of currencies and energy prices could be a long-term positive impulse to world growth.

So in 2015, let’s be grateful for organic, slow and steady growth, not leveraged boom-like growth. Let’s hear a cheer for lower, not higher, energy prices. And let’s bear in mind that when low interest rates rise someday, it will be a sign that normalcy is coming back, not that disaster is looming.

Opinion column by James Swanson, Chief Investment Strategist, MFS